You have probably heard it or read it before but I find that sometimes the important things need to be reiterated multiple times so to kick off 2016 I'm stating with my basics. These are what I consider the five most important things to keep in mind whenever you are trying to build wealth.
Out of all of the points on my list this is the one that I come across the least often but is the most important for me. When you decide to become an investor you need to leave "numbers" behind and start thinking in percentages. Let me explain. Every dollar that you have vested in a particular area has an effect that must be measured. Take for instance a $10 bill. It doesn't really have a ton of purchasing power anymore. Maybe it is some fast food and a snack, something that you forget about the next day. If that $10 is the result of a $100 investment however, you are making 10% on your investment. Now take a look at your bank's interest rate on your savings account. You'll be lucky to find it at 1% in the current environment. You just did ten times better than what a bank would have given you for depositing that money. Imagine now that you had $100,000 and made 10%. That is $10,000 in profit. Suddenly 10% means a lot more. Get yourself in the mindset that everything you use your money for is a percentage. It will make you understand your money in an entirely new way.
I've personally had this conversation with people many times. They know that I do some trading on the stock market and they want to know if I can teach them a little about it or give them any suggestions on what to invest in. My first question is always "How much debt do you have?" If the answer is anything other than "None" then I first go back to this point. Pay off your short term debt first! I cannot stress this enough. Back to my first point, imagine you are making that 10% on your investment and I know it feels really good to see your balances increase as you make money. Now look at your interest rate on your favorite credit card. Best case scenario it can be 12% all the way up to 25% and beyond. If you decided to invest that money while you owe on your credit card you would be LOSING overall wealth. Sure, you made $10 but the credit card charged you $12. You lost $2 by not paying that $100 towards your balance.
I'm not immune to this either. The allure of investing and making more money is difficult to deny and I sometimes invest when I have short term debt. If you want to be as efficient as possible though and keep more of your money then you have to pay off your short term debt first. (Long term debt tends to have lower interest rates like a mortgage or car note so you can actually earn more than you are losing on the borrowed interest, but not always)
Have an Emergency Fund in cash. If the worse does happen you don't want to have to liquidate your investments to dig you out, possibly suffering losses in the process. The usual advised amount was 3 months of your monthly salary. Recently some people have been advising 6 months. That is a lot of money to just sit in a cash account. Full disclosure I personally don't have that but it is a goal of mine. At least have enough cash put away that you would be comfortable handling most situations. It's a lot better than seeing a zero in the account when you desperately need money for an emergency and bank transfers from brokers can take days. My advice is the 3 month mark but your mileage may vary.
This is your money that you are trying you grow. You should have a good understanding of what you are investing in. This goes for your 401k as well (if you have one). Many people I've spoken to have no idea what a 401k actually is, how it works, or what they are investing in through it. It takes minutes to wrap your head around most mutual funds and ETFs. Take the time to know the investment and it's risk. You wouldn't give a stranger on the street money to invest for you so don't let your investments be unknown to you. This goes double if you are investing in individual stocks. No one has discovered the perfect formula for making money investing so you may need to make some critical decisions. Staying informed is the only way to ensure that you are getting the most from your investment.
This is one of the worst and most common mistakes. The stock market takes a dip and most people's initial reaction is the sell their shares to take as much money as possible. The rational behind this is that they've already lost X amount so they wanted to take it out before they lost everything. Unless you are planning on cashing everything out to retire this is the exact opposite of what you want to do. I explain it to my friends like this. As long as more people are being born then are dying, the stock market will go up. There will be more people buying food, houses, taking out loans, etc. There are fluctuations to be sure but if you are buying to hold on to like a 401k then the chances of you losing over the long haul are very slim. This doesn't count for risky individual investments of course but the average person I've spoken to only has a 401k. That's a buy and hold game. Don't get spooked by market fluctuations. As I write this the stock market is having it's worse opening month since the market "crash" of 2008. That crash lasted 5 years at which time if you had kept investing regularly you made out very well. Chances are as long as you stay the course you will do so again.
As always, this is general advice I'm giving, your investments are your own. Do as much research as possible to ensure you are making sound investments.
1. Think In Percentages
Out of all of the points on my list this is the one that I come across the least often but is the most important for me. When you decide to become an investor you need to leave "numbers" behind and start thinking in percentages. Let me explain. Every dollar that you have vested in a particular area has an effect that must be measured. Take for instance a $10 bill. It doesn't really have a ton of purchasing power anymore. Maybe it is some fast food and a snack, something that you forget about the next day. If that $10 is the result of a $100 investment however, you are making 10% on your investment. Now take a look at your bank's interest rate on your savings account. You'll be lucky to find it at 1% in the current environment. You just did ten times better than what a bank would have given you for depositing that money. Imagine now that you had $100,000 and made 10%. That is $10,000 in profit. Suddenly 10% means a lot more. Get yourself in the mindset that everything you use your money for is a percentage. It will make you understand your money in an entirely new way.
2. Pay Off Your Short Term Debt!
I've personally had this conversation with people many times. They know that I do some trading on the stock market and they want to know if I can teach them a little about it or give them any suggestions on what to invest in. My first question is always "How much debt do you have?" If the answer is anything other than "None" then I first go back to this point. Pay off your short term debt first! I cannot stress this enough. Back to my first point, imagine you are making that 10% on your investment and I know it feels really good to see your balances increase as you make money. Now look at your interest rate on your favorite credit card. Best case scenario it can be 12% all the way up to 25% and beyond. If you decided to invest that money while you owe on your credit card you would be LOSING overall wealth. Sure, you made $10 but the credit card charged you $12. You lost $2 by not paying that $100 towards your balance.
I'm not immune to this either. The allure of investing and making more money is difficult to deny and I sometimes invest when I have short term debt. If you want to be as efficient as possible though and keep more of your money then you have to pay off your short term debt first. (Long term debt tends to have lower interest rates like a mortgage or car note so you can actually earn more than you are losing on the borrowed interest, but not always)
3. Put Some Emergency Money Away
Have an Emergency Fund in cash. If the worse does happen you don't want to have to liquidate your investments to dig you out, possibly suffering losses in the process. The usual advised amount was 3 months of your monthly salary. Recently some people have been advising 6 months. That is a lot of money to just sit in a cash account. Full disclosure I personally don't have that but it is a goal of mine. At least have enough cash put away that you would be comfortable handling most situations. It's a lot better than seeing a zero in the account when you desperately need money for an emergency and bank transfers from brokers can take days. My advice is the 3 month mark but your mileage may vary.
4. Know You Investment
This is your money that you are trying you grow. You should have a good understanding of what you are investing in. This goes for your 401k as well (if you have one). Many people I've spoken to have no idea what a 401k actually is, how it works, or what they are investing in through it. It takes minutes to wrap your head around most mutual funds and ETFs. Take the time to know the investment and it's risk. You wouldn't give a stranger on the street money to invest for you so don't let your investments be unknown to you. This goes double if you are investing in individual stocks. No one has discovered the perfect formula for making money investing so you may need to make some critical decisions. Staying informed is the only way to ensure that you are getting the most from your investment.
5. Don't Panic
This is one of the worst and most common mistakes. The stock market takes a dip and most people's initial reaction is the sell their shares to take as much money as possible. The rational behind this is that they've already lost X amount so they wanted to take it out before they lost everything. Unless you are planning on cashing everything out to retire this is the exact opposite of what you want to do. I explain it to my friends like this. As long as more people are being born then are dying, the stock market will go up. There will be more people buying food, houses, taking out loans, etc. There are fluctuations to be sure but if you are buying to hold on to like a 401k then the chances of you losing over the long haul are very slim. This doesn't count for risky individual investments of course but the average person I've spoken to only has a 401k. That's a buy and hold game. Don't get spooked by market fluctuations. As I write this the stock market is having it's worse opening month since the market "crash" of 2008. That crash lasted 5 years at which time if you had kept investing regularly you made out very well. Chances are as long as you stay the course you will do so again.
As always, this is general advice I'm giving, your investments are your own. Do as much research as possible to ensure you are making sound investments.
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